Is There Private Information in the FX Market? The Tokyo Experiment
Takatoshi Ito*
Richard K. Lyons
Michael T. Melvin
This draft: July 1996
Abstract
It is mon view that private information in the foreign exchange market does not exist. We provide evidence against this view. The es from the introduction of trading in Tokyo over the lunch-hour. Lunch-hour return variance doubles with the introduction of trading, which cannot be due to public information since the flow of public information did not change with the trading rules. Having eliminated public information as the cause, we exploit the volatil- ity pattern over the whole day to discriminate between the two alternatives: pri- vate information and pricing errors. Three key results support the predictions of private-information models. First, the volatility U-shape flattens: greater revelation over lunch leaves a smaller share for the morning and afternoon. Second, the U-shape tilts upward, an implication of private information that is transitory in nature. Finally, there is a clear U-shape in the morning when Tokyo closes over lunch which disappears with the lunch-hour opening as a full- day U-shape is established.
Correspondence Professor Richard K. Lyons Haas School of Business, UC Berkeley Berkeley, CA 94720-1900 Tel: 510-642-1059, Fax: 510-643-1420 E-mail: ******@
* Respective affiliations are Hitotsubashi University, IMF, and NBER; UC Berkeley and NBER; and Arizona State University. We thank the following for ments: Jeff Frankel, Andy Rose, and seminar participants at Santa Cruz, LSE, Berkeley, and FRBNY. Lyons thanks the National Science Foundation and the Berkeley Program in Finance for financial assistance. Is There Private Information in the FX Market? The Tokyo Experiment
1. Introduction It is mon view that all participants in the for